Stress-TestYourRetirementPortfolio

Well, the same can be said about retirement portfolios. We should be able to see how our portfolios will react under stress, says Daniel Satchkov, a chartered financial analyst and president of RiXtrema, a risk modeling and consulting firm that focuses on extreme financial-market events and has built a portfolio crash testing service.

And then we need to figure out whether to accept or mitigate those stress points.

According to Satchkov, most—though not all—investors build retirement portfolios with one goal in mind—to maximize returns. And in doing so, they fail to consider how their portfolio might perform when things go bad—when inflation rises or emerging markets collapse, for example. "Most of the time they ignore it,” he said.

To be fair, some investors are risk-averse rather than return-hungry. "Some people become overly focused on the risk and, without a way of measuring it accurately, they become overly conservative,” Satchkov said in an interview.

Still other investors might think about risk, but only in terms of recent events. "Right now, when people think about risk, they will think about ’08,” he said. "And all other scenarios are not really present in their thinking.”

In the real world, however, risk and return are not separate items—they are part of the same equation. "Risk is not some separate thing you can dial up or dial down,” he said. "Risk is really a cost that you are paying to get the return that you need.”

Portfolio crash-testing

So how best to identify the stress points in your nest egg? And equally important, what’s the best way to address those stress points?

Satchkov likes to use the car-evaluation process as the metaphor to help explain how it can be done.